NEWS / Trade Policy

Dollar backtracks as Fed pause seen more likely

By Eric Burroughs

TOKYO - The dollar slipped toward a one-year low against the euro on Monday after surprisingly soft U.S. employment data last week helped squelch expectations for the Federal Reserve to raise overnight interest rates again this month.

The 75,000 jobs created in May was far short of forecasts for a 175,000 increase, providing more evidence of slowing economic growth that could cool core inflation now running at the upper end of the comfort zone of some Fed officials.

The central bank's 16 straight increases in short-term rates to 5 percent had boosted the dollar's yield advantage in 2005 and fired a rally in the U.S. currency.

But anticipation of a coming Fed pause, along with worries that Washington wants a weaker currency to help curtail its massive trade deficit, have all undermined the dollar this year.

Kikuko Takeda, currency strategist at Bank of Tokyo-Mitsubishi UFJ, noted the dollar is back to where it was before the minutes of the Fed's May meeting, released last week, helped revived expectations for a move in June.

"It was just a return to the starting point and dollar/yen is still rangebound. To confirm the dollar bottom at this stage, we need something from the global imbalance theme," she said.

The call by Group of Seven industrial powers for China and emerging Asian countries to allow more currency appreciation added fuel to a month-long dollar sell-off in April.

The euro has been boosted by the European Central Bank's expected string of rate increases, with speculation rife the ECB could boost rates at a meeting this week by a whopping half-percentage point to 3 percent.

Upbeat data in Japan helped reinforce the case for the Bank of Japan to begin lifting rates from zero as soon as July, with a report showing capital spending rose a robust 13.9 percent in the first quarter from a year earlier.

But with interest rates in Japan still well below those elsewhere, investors have not yet flocked to the yen. For the year the euro is up more than 9 percent against the dollar while the yen has gained roughly 5.5 percent.

By 0510 GMT, the dollar had slipped to 111.60 yen from 111.75 yen in late New York trade on Friday, mainly due to selling by Japanese exporters, traders said.

The dollar hit an eight-month low near 109 yen on May 17 but has since bobbed between 111 yen and 113 yen.

The euro rose to $1.2945, not far from the one-year peak of $1.2972 struck in mid-May on electronic trading platform EBS. Against the yen, the single currency inched up to 144.45 yen.

Some traders say the euro will likely test $1.30 this week, while others say the euro could be in for a major correction given the huge speculative buying in the currency recently.

Currency speculators boosted their net long positions in the euro to a record 79,884 contracts in the week to May 30, from 72,076 a week earlier, data from the Commodity Futures Trading Commission showed on Friday.

Speculators' net dollar short positions against six major currencies and the Mexican peso also rose to their highest since November 2004.

RATE DEPENDS ON DATA

Fed policymakers have made clear further credit tightening would depend on the shape of incoming economic data and that inflation is running hotter than they expected just a few months ago.

Futures on the fed funds rate still see a roughly 45 percent chance of a rate increase at the June 28-29 meeting, mainly because of the pick-up in inflation. All eyes are now turning to the May consumer price index due next week.

Among Monday's big events, at 1815 GMT Fed Chairman Ben Bernanke, ECB President Jean-Claude Trichet and BOJ Deputy Governor Toshiro Muto all participate in a panel discussion in Washington at the International Monetary Conference.

The U.S. Institute for Supply Management's service sector survey, due at 1400 GMT, is expected to show growth moderating, with the headline index forecast to dip to 60.0 in May from 63.0 in April

U.S. Treasury Secretary nominee Henry Paulson makes the rounds in Washington, meeting with Senator Chuck Grassley, chairman of the Senate Committee on Finance.